Renting vs. Buying a Home

From an article in the WSJ, "First-Timers Begin Looking At Houses Again: Lower Prices, Mortgage Rates Lure Buyers Off the Sidelines:"

"The share of first-time home buyers dropped earlier this year to its lowest level since 1987. First-time home buyers now account for 36% of home purchases, down from 40% in the three previous years.

High home prices have helped drive many first-time buyers out of the housing market. Now, with prices falling in many areas, there are some signs that buyers are beginning to drift back."

By definition, first-time home buyers are renters, and make a rent-buy decision based on the relative cost of renting a house or apartment vs. buying a house or condo. Therefore, there is significant competition between the two real estate markets: rental market vs. home buying market.

As the table above shows, the cost of renting an apartment, relative to buying a home, has decreased in all cities (except Indiapolis) over the last 5 years, due mostly to the 42% rise in home prices over this period. The table also show that in 2001, it was about 2% more expensive to rent than buy on average, but now it is about 21% less expensive to rent than buy. However, as home prices and interest rates fall, the advantage is shifting back towards buying, and the first-time home buyers are shifting from renting to buying, as the article points out.

For example, a year ago, the monthly payment for a home at the median price of $229,000, at the average 30-year mortgage rate of 6.33%, with a 20% down payment, was $1138. Today, the monthly payment for a median price home of $221,000, at the current rate of 6.16%, would be $1,078, or 5.3% lower than a year ago.

Bottom Line: There probably won't ever be a significant crash in home prices, because of a powerful self-correcting mechanism in place: Once home prices start to fall enough, the advantage shifts towards owning a home vs. renting, first-time homebuyers are attracted by the falling prices, and the demand for buying houses increases. Right now, it's as if houses are "on sale" at a 5% discount compared to a year ago because of falling home prices and falling interest rates. If Macy's can have a sale, why not the real estate market? It's a great time to buy a house.

Economic Week in Review

Summary: In an upbeat week for economic news, the Federal Reserve Board announced Tuesday that it left the target for short-term interest rates unchanged at 5.25%. This marked the fourth meeting that the central bank made no rate adjustments. Investors were also cheered by reports of strong retail sales, a shrinking trade deficit, increased industrial production, and more signs that inflation is being held in check. For the week, the S&P 500 Index rose 1.2% to 1,427, the highest close in more than six years (since Nov 8, 2000). The yield of the 10-year U.S. Treasury note rose 4 basis points to 4.60%.

Read more here.

Top Ten Economic Predictions for 2007

Just released from Global Insight:

1. SLUGGISH GROWTH FOR THE U.S. (2.2%).
2. OTHER REGIONS (like Europe) WILL ALSO SLOW A LITTLE.
3. ONCE AGAIN, CHINA AND INDIA WILL BE STAR PERFORMERS.
4. OIL PRICES SHOULD REMAIN HIGH - $60-65 per barrel.
5. CORE INFLATION WILL EASE to 2% core inflation by late 2007.
6. THE FED WILL CUT RATES (to 4.5%) AS OTHER CENTRAL BANKS TIGHTEN.
7. HOUSING WILL KEEP DAMPENING U.S. GROWTH, AND COULD BECOME
A THREAT ELSEWHERE.
8. CURRENT-ACCOUNT IMBALANCES WILL EASE A LITTLE.
9. DOWNWARD PRESSURE ON THE DOLLAR WON'T EASE - $1.40/euro.
10. NO RECESSION IN 2007 UNLESS MUCH HIGHER OIL PRICES, INFLATION, AND INTEREST RATES.

See Global Insight's Top Ten Predictions for 2006 from one year ago here, and see how accurate they were.

Real Income is Rising, Not Stagnating

According to another BLS report today, average weekly earnings increased by 4.4% over the last year, from $550.26 last November to $574.27 in November 2006, a 4.4% annual increase. After adjusting for inflation, real average weekly earnings increased by 2.6% over the last year. Data therefore show an INCREASE in real wages, not flat or declining real wages as prevailing popular myths would suggest. And this report is for monetary wages only (excludes fringe benefits), not for Total Compensation, which is released in a separate quarterly BLS report.

CPI Report

From today's Consumer Price Index (CPI) report:

1. Overall annual inflation from Nov 2005 to Nov 2006: 2.0%

2. Inflation over the last year without energy and food: 2.6%

3. Monthly inflation from Oct 2006 to Nov 2006: -.1%

4. Largest price decline over the last year: Energy, -3.8%

5. Largest price increase over the last year: Medical care, +3.7%

6. Weight of food prices in the CPI: 15%

7. Weight of housing prices in the CPI: 42%

Diamonds Are For Never?

From an article in the NY Times about diamonds:

American purchasers account for half the world’s $60 billion in annual retail sales.

“Many women are saying, ‘This is supposed to be a symbol of all things good and I don’t want to look down on my finger and think of women and children being killed.’ It undermines the entire meaning of that ring.”

Why Do Investment Bankers Get Paid So Much?

Read Tyler Cowen's explanation here at Marginal Revolution.